The complexity and legal implications of an M&A agreement are such that any material conflicts should be avoided for all parties. It falls to a board of directors to evaluate and negotiate transactions as part of its fiduciary duties to a company. To that end, a board can and should appoint a special committee of independent directors if there are significant potential conflicts.
In general, boards approach M&A transactions seeking the best available price, given their duty to benefit stakeholders. Under Delaware law, the “business judgment rule” assumes that the board members act in good faith, placing the burden of proof on the plaintiff for alleged breaches of duty. However, the business judgment rule can be deferred in favor of the “entire fairness” standard of review. The burden of proof falls to the defendant under certain circumstances, including where the board is conflicted. With a well-established special committee of disinterested directors, proving a breach in duty once again falls to any potential plaintiffs.
A good special committee is defined by the breadth and strength of its mandate, its members’ independent and disinterested nature, and its exercise of due care in considering a proposal. Ideally, the special committee should serve as an impartial third-party negotiator, with authority granted by its mandate from the board. A special committee’s mandate should also grant it the power to consider other options or even pursue litigation. With a well-constructed mandate, a special committee should satisfy the independence objective.
Due to the difficulty and complexity of handling a third-party transaction, every member of a special committee should be free of conflicts of interest. A disinterested director is defined as being without influence from interested parties or connections to management. Potential conflicts of interest include material interests, board or management positions, and business/personal relationships with the interested party or any party that holds influence over them. Note that personal relationships on their own are generally insufficient to prove that a director has a conflict of interest. In addition to the standards listed above, members of a special committee should be chosen for relevant attributes, including availability and relevant expertise.
Creating a special committee often serves as evidence of independence and will continue to be a best practice in corporate governance where there are potential or actual conflicts. Courts in Delaware have provided extensive guidance on the attributes of a well-constituted committee. If given an adequate mandate and staffed with impartial directors, a special committee can be valuable protection for shareholders and a board.
Jonathan F. Foster
Founder – Current Capital Partners LLC